April 2008

April 22, 2008

(The following post is not intended to be, nor should be construed as, individual investment advice. Mr. Yetman accepts no responsibility for the specific investment decisions made by anyone on the basis of having read the post.Furthermore, the post is not, nor should be construed as, a solicitation to buy or sell any security.)

Those who know that I’ve worked as a financial services professional for nearly twenty years do not hesitate to ask my advice about what to do during topsy-turvy stock markets like the one we’ve been experiencing for many months. Whenever I respond by saying, “Just relax, try not to follow your investments so closely, and just ride it out,” I am often regarded as the irresponsible father who’s allowed his children to venture off with complete strangers.

The simple reality, though, is that I’m right.

Let’s start with the immutable truth that with all of the substantial swings in the domestic stock markets that have occurred over the last year, with all of the horrible news that has emerged with regard to mortgage write-downs, the real estate market, oil prices, etc., the benchmark Dow Jones Industrial Average Index is, at this writing, sitting at 12,825.12,825 represents a whopping…umm…9% downturn from its all-time high, reached this past October.9% down; not 70% down….not 50% down….not 20% down…but 9%.Fair enough, you might say, but the DJIA accounts for only 30 stocks; what about the S&P 500 Index, which is much more broad-based and, for many investors, a better indicator of equities performance as a whole? Well, once again, we see that the S&P Index is down 11% from its all-time high (reached in October 2007, as well).Granted, down is down, but only the most immature investor expects investments to constantly go up.When you consider what this economy has been through, and the fact that we are still within striking distance of these indices’ all-time highs, these current drops from the loftiest of heights do not seem so bad at all.

I’ve known some professional money managers who will “hear it” from clients when they don’t see their portfolios being moved exclusively into cash during volatile markets.Here’s the problem with selling everything and moving into cash: Assuming you are a long-term investor, once you move out of the markets, you now have to decide when to move back in.It’s what I call “crystal ball investing,” and I, for one, don’t believe in it, because I can’t seem to find a reliable, functioning crystal ball.Let’s look at the DJIA again.As recently as March 10 of this year, the index sat at 11,740; it is now at 12,825.That’s a 9% increase in just over a month.If you’re sitting in cash on March 10, when do you get back in?That day?A few days later?Not yet? Your best bet is to sit tight and avoid trying to "time" the lows and the highs. For that matter, we fully expect to see additional volatility in the near term, so you are well-advised to get used to it and select another hobby besides worrying.

The best strategy to employ during a volatile market is the same as the best strategy to employ during a bull market:

Keep the vast majority of your holdings in mutual funds.A solid portfolio of diversified funds will do just fine in a strong market, and will tend to cause less portfolio devaluation during weak markets.

Review the performance of your holdings no more than once per quarter.Even then, don’t overreact to what you see – if the markets, as a whole, have been down, expect your holdings to be down, as well.

Resist the temptation to take significant positions in cash or precious metals during these markets.While there can be a place for the short-term use of these asset classes by certain strategic money managers, most portfolios are better off doing without them over the long run.

If you do want to be proactive during down markets, the smartest thing you can do is invest more money.Investments are like anything else – the better deals come when merchandise is on sale.If you have any available cash sitting on the sidelines, use it to buy more shares of your holdings.

As your body tries to fight the queasiness that comes from this stormy voyage, remember that you’re investing not for today, next month, or next year…but for a lifetime, and with that timeframe in mind, you should find that the stock market will remain one of the most reliable ships in your fleet.

Do you agree?Do you think that ignoring all of this upheaval is best for the prudent investor, or should he do something drastic during these seemingly-uncertain times?What are you doing with your holdings during this time?Please feel free to comment below.